that is all the information provided by the prof. please answer all the parts. W
ID: 2535164 • Letter: T
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that is all the information provided by the prof. please answer all the parts.
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Money and Bank Tell me what you want to do... TNormal 1No Spac... Heading1 Heading 2 Title Subtitle Subtle Em... E The Fed has also committed to deflating its balance sheet so that it can get monetary policy back to normal. As we talked about in class, the Fed has planned to shrink their roughly $4.5 trillion balance sheet by not reinvesting the money it gets when it redeems securities when they mature. The Fed has started this "taper" program by not reinvesting $6 billion in Treasuries and $4 billion in mortgages backed securities (MBS) per month 1. a. Show this change on the Fed's balance sheet. b. Show this change on the balance sheet of the banking system. Assume required reserves are 5% of deposits and banks do not hold excess reserves Why might the effect of this taper on the banking system be smaller than the effect predicted in question 2b? c.Explanation / Answer
2. Bank has the power to increase money supply through credit expansion. This effect is known as credit multiplier. The rate at which credit is created depends on the reserve ratio of the banks.
Credit Multiplier = 1 / Required Reserve Ratio
= 1/ 5%
= 20
It means in the given question bank has the power to expand its initial deposits by 20 times.
As the fed will withdraw the money worth $10 billion per month from the banking sector by not reinvesting it, it will decrease the supply in the whole economy by $200 billion (10*20). Ultimately decrease in money supply will result in decrease in the aggregate demand.
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